In what may seem counter intuitive, treasury bond yields have had a high positive correlation with the rate of Federal Reserve asset purchases. When the rate of Fed asset purchases rises, bond yields rise, and vice versa. If one thinks of Fed asset purchases as stimulative to growth and inflation expectations (the two components that make up risk-free bond yields) then this positive relationship makes sense.

In the charts below we measure the rate of Fed asset accumulation by measuring the three month difference in the size of the Fed's balance sheet. Since the Fed has scripted out the end of QE, we can easily model out how this rate of change will proceed for the remainder of the year.

We then compare the rate of change in Fed assets to the 30-year bond

the 10-year bond... 1.5% by year-end

and junk spreads inverted

The link between Fed asset accumulation and these various bond yields is unmistakable, especially for longer duration bonds, and this simple model shows how even lower bond yields may be in the offing as the Fed puts on the breaks. For junk bonds, this seems to portend higher spreads, which may help to put the recent widening of spreads in context.

Comment viewing options

Saw a Morgan Stanley guy at a neighborhood party. He certainly believes that bond rates are going down (prices going up). He is not the brightest guy, but heck if you are an insider it does not matter, does it?

Regarding "threaded mode," go to the top of any discussion, and look just under the phrase; "Comment viewing options," which is printed in large bold letters. You will see a drop-down menu item that lets you select "threaded mode" or something else.

The FED countefeits(QE) and gives it to banksters(reserves). The banks front run all the markets with free money, wee! The FED takes away this free money and the monetary tide goes out of all the markets except one. Everyone heads for the safety of Treasuries. When markets have tanked and rates have hit new all time lows, look for the next QE. This is the only income generator they've had for 5 years.

Agree up to the point you say there will be QE again. I don't believe they are going to do that. Next time my guess is bail ins. More QE threatens the dollars reserve status which seemed impossible 5 years ago. Now, there seems to be a threat daily.

So save banking system through inflation last time, solve it through deflationary bail ins next time. Just another asshole with an opinion....

I think this article is accurate about the direction of yields but at this point the more yields drop the more div paying stawks get bid as well as investment grade bawnds. That should be enough to continue to make the bond and stock market look fantastic, even if high yield starts blowing up.

There will be a point however when you can't squeeze any more yield out of any asset, and then the implosion starts and works it's way out and it's game over.

So these fools have a model. No logic, motivation, reason, incentives or disincentives, just a model. If they believed this, they would put their own money in it, but it's much safer to sell advice to the unwary.

The whole world is screwing with QE. Japan is the worst offender, and it isn't working as planned anywhere.

When someone, anyone, has to defend a currency from total collapse, what happens to your piss ant model?

Nah, negative interest rates will let the party continue more or less forever - where's your faith in the system Fonz? All this doom-and-gloom, it's almost as if you question the enlightened wisdom of current policies.

What happened in Japan 20+ years ago? Well, investors got the crap scared out of them and everyone went running to the safety of bonds (most notably government bonds) even as successive rounds of QE were unleashed. Equities were shunned, nobody wanted to risk losing money. "Animal Spirits" died a slow, agonizing death as the population aged and any thought of economic growth became laughable, dismissed out of hand.

They were driven by fear. Not greed. And down went the yields along with their stock markets.

Do you notice an corollary to this mindset with your clients? I do with mine.

Nobody wants to hear shit about anything that isn't guaranteed. GOVERNMENT guaranteed, preferrably. The same mindset that took root in Japan is becoming firmly entrenched in the US.

I'd be looking into setting up MYRA accounts with your clients. And lean heavy on long-dated maturities before you pine for the days of 3% yield.

Lacy Hunt is a rare bird - a superb economist, as well as a bond market historian with an acute sense of history (unlike most bond "strategists" today, who merely try to predict the Fed's next moves). Yes, I'm a fanboy...

If people don't want to borrow, and you want to lend, how can you raise the price of the loan you're peddling? The price of the loan is its interest rate. How can you tell people the interest rate is 3% when they refused to borrow at 2.5%?

Hard to raise the price of things people don't want.

Bonds took a rather mild hit today, overall because there is probably doubt about that GDP number. No one believes that explosive growth in demand for borrowing is there, so no one thinks the price of those loans can rise.

Just what, 3-4 days ago we got the new single family home sales numbers for June and it was a disaster, with revisions for May, April and March, also disasters.

How does that happen in a 4% economy? Answer: it doesn't. It's not a 4% economy.

Of course, we are. It was our FED officials who advised the Japanese on how to protect their banks at the economy's expense. The only difference is foreign confidence in the dollar. If that's lost along the way, then turn USSR in 1991.

If there are more buyers than sellers for a given bond, the PRICE of the bond goes up, and the yield goes down. The better question then is this; why is there so much demand for bonds? Exogenous geopolitical events have an influence on demand, but they are not the only influence on demand.

The strongest influence on the demand for bonds in this current environment is the FED, which is aggressively buying fixed credit of all kinds (e.g., QE, POMO). Next, ALL of the central banks are printing, and that money has to go somewhere, and a significant part of the new money is going into bonds.

Another big part of bond demand is as collateral for swaps in the enormous, tippy tower of derivatives. ZH has had some articles on this lately, and on "fails to deliver" as an indicator of bond tightness desperation. Part of the reason the Fed is tapering is because Fed purchases crowd out the other players at the table who need those bonds.

CBs of creditor nations eg China does not want this flood of QE to cause inflation in their own economies and are reverting the flow in buying Try. A temp place for them to park their reserves until they cycle it out to real assets.

Yellen said there are a lot of slackers in the labor market, which means they'll have to hire more to do the same amount of work, which is inflationary, which means a big 400k job print on Friday and the 10YR nudging 2.95% by Monday morning.

The entire idea of financial repression is to slowly make bad debt good. The problem is that competitive dynamics and game theory have prevented nominal inflation (Chinese continue to export deflation with neo mercantilist policies). There is only 1 semi stable path to re-liquify the system. The Fed should have been buying gold the entire time to force the currency issue.. It will eventually, so you might add well front run it and sell all float scams to buy the gold...

I have a chart that clearly shows the 30, 20 10 all converging towards the 7 yr yield which is very slowly rising. In about three months if it follows the same trend it has for the past 9 months then they will diverge and everything will be upside down by year end with 30 yields lower than 20 and those lower than 10 and those lower than 7 .